Cash Flow Statement
As per the chapter of Accountancy on Cash Flow Statement class 12, a cash flow statement refers to a statement showing the cash inflows and outflows or the financial position of a business during different intervals of time in terms of cash and cash equivalents.
- All publicly listed entities have to prepare and report a cash flow statement along with other financial statements on an annual basis under the New Accounting Standard-3.
Cash vs Cash Equivalent
According to the chapter on Cash Flow Statement class 12, Cash is divided into two categories which are cash in hand and demand deposits with the bank. On the other hand, cash equivalents are described as short-term highly liquid assets that are readily convertible into known amounts of cash and have a low risk of value change.
Cash Flows
As per the chapter on Cash Flow Statement class 12, cash flows are referred to as the inflows and the outflows of cash and cash equivalent in a business. In other words, it can be explained as the movement in and movement out of cash and cash equivalents. Think of it this way, the receipt of cash from a non-cash item would be termed as cash inflow and the cash payment in respect of such items would be termed as cash outflow.
Objectives of Cash Flow Statement
Based on the chapter on Cash Flow Statement class 12, the following are the objectives of a cash flow statement:
- When it comes to short-term financial planning, this method comes in handy.
- When it comes to successful cash management, this is a must-have.
- It is useful in the implementation of business policies.
- Assists in the creation and formulation of a cash budget.
- Used to measure cash flow from different activities such as running, saving, and funding.
Limitations of the Cash Flow Statement
Based on the chapter on Cash Flow Statement class 12, the following are various limitations of a cash flow statement:
- It is based on the historical cost principle
- Additionally, it is based on secondary data
- No adherence to basic accounting principles
- A cash flow statement is not a substitute for the income statement
- It ignores all the non-cash transactions
Question for Chapter Notes - Cash Flow Statements
Try yourself:Which of the following is a limitation of the cash flow statement?
Explanation
The correct answer is d) It excludes non-cash transactions.
Explanation:
- The cash flow statement excludes all non-cash transactions, which means it does not provide information about transactions that do not involve cash or cash equivalents.
- The statement primarily focuses on cash inflows and outflows and does not consider non-cash items such as depreciation, barter transactions, or changes in non-cash working capital.
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Classification of Business Activities
Classification of Business Activities Accounting Standard-3 (Revised) requires that the changes resulting in inflows and outflows of cash and cash equivalents will be classified into following three activities:
(i) Cash flow from operating activities.
(ii) Cash flow from investing activities.
(iii) Cash flow from financing activities.
Cash Flow from Operating Activities
The cash flow from operating activities covers the enterprise’s key revenue-generating activities as well as other non-investment and non-financing activities.
For a Finance Company
For an Insurance Company
For a Real Estate or Infrastructure Company
Question for Chapter Notes - Cash Flow Statements
Try yourself:Which of the following is an example of an operating activity in a cash flow statement?
Explanation
The correct answer is c) Payment of salaries to employees.
Explanation:
- Operating activities in a cash flow statement involve cash transactions directly related to the core operations of a business.
- Payment of salaries to employees is an operating activity as it represents a cash outflow arising from the regular operations of the company.
- It is a day-to-day expense incurred in running the business and directly affects the cash position.
- Options a), b), and d) are not examples of operating activities.
- Option a) relates to capital expenditure for future expansion, option b) involves financing activities related to raising capital and option d) represents a cash inflow from investing activities through the sale of long-term investments.
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Cash Flow from Investing Activities
Investing activities (as specified by AS-3 or the Accounting Standards-3) are the purchase and disposition of long-term assets and other investments that are not included in cash equivalents. The following is a map of cash flow from investment activities:
Question for Chapter Notes - Cash Flow Statements
Try yourself:Which of the following is an example of an investing activity in a cash flow statement?
Explanation
The correct answer is b) Purchase of equipment for production purposes.
Explanation:
- Investing activities in a cash flow statement involve cash transactions related to the acquisition or disposal of long-term assets and investments.
- The purchase of equipment for production purposes is an investing activity as it represents a cash outflow incurred to acquire a long-term asset that will be used in business operations. It involves the investment of cash to enhance the production capacity or efficiency of the company.
- Options a) and d) are not examples of investing activities.
- Option a) relates to the payment of dividends, which is a financing activity, and option d) represents the issuance of bonds, which is also a financing activity.
- Option c) represents a cash inflow from operating activities, specifically the collection of accounts receivable from customers.
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Cash Flow from Financing Activities
Financing operations, according to AS-3, are those that result in a change in the size and composition of the owner’s capital (including preference share capital) and borrowings (including debentures) from other sources. The following is a chart or table of cash flow generated by financing activities:
Question for Chapter Notes - Cash Flow Statements
Try yourself:
Which of the following is an example of a financing activity in a cash flow statement?
Explanation
The correct answer is b) Repayment of a long-term loan.
Explanation:
- Financing activities in a cash flow statement involve cash transactions related to the capital structure of a company, including debt and equity.
- Repayment of a long-term loan is a financing activity as it represents a cash outflow to settle a liability that was raised to finance the operations or expansion of the business.
- It affects the company's financing arrangements and cash position.
- Options a), c), and d) are not examples of financing activities.
- Option a) relates to the purchase of inventory, which is an operating activity, option c) represents a payment of expenses, also an operating activity, and option d) refers to the sale of goods to customers, which is a revenue-generating activity and falls under operating activities.
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The format of the Indirect Method of the Cash Flow Statement as per the chapter on Cash Flow Statement class 12 and the Accounting Standard-3 (Revised) is as follows: